Exclusive Q&A on Franchise Law with Mercedes Clavell

Can you outline the main laws affecting franchising in your jurisdiction?
 
In Spain we have Royal Decree 201/2010. It defines the franchising activity and establishes the minimum content of the disclosure document and the prohibition for the franchisor to receive any monies from any prospective franchisee before 20 days from the date when the disclosure document has been delivered to the prospective franchisee.
It also includes some clauses regarding registration of franchisors and the updating of the information provided to the Franchisors’ Registry.

Apart from this basic law, many other laws affect franchising: IP, consumers’ rights, unfair competition, etc. For the moment there is not any law establishing labor liabilities for franchisors derived from the franchisees’ employees.
 
Have there been any recent regulatory changes or interesting developments?
 
It is interesting to mention what is the situation in Spain regarding labor and the joint employer issues, which is not new, but related to some important changes in the US. In Spain there is not any law or regulation establishing the joint liability for labor issues between franchisor and franchisee. However, some judgements have jointly sentenced the franchisor to pay compensations to the franchisees’ employees. The reason is because the labor court proceedings allow employees to file their claims not only against the employer but against any other related company without having to provide too many proofs at the starting point. Then it becomes the franchisor’s responsibility to prove in court that it had not any direct relationship with the employee. On the other hand, labor regulations and case law provide that when a new company develops the same activity in the same premises than a former company, this new company is liable for the first company’s debts, especially those related to labor, social security and tax matters, but this joint liability affects all type of companies and not only the franchising ones. There are several tools to minimize this risk, from monitoring the fulfilment of the legal obligations by the franchisee, to acquiring the franchised business through a bankruptcy procedure of the franchisee.
 
In 2013 there was a very interesting judgment from the European Court of Justice (case C-117/12), that imposes an important limit to the scope of the non-competition covenants applicable after the termination of a franchise agreement: they should exclusively apply to the premises where the franchisee developed its activity, not to the whole territory where the franchisee was authorized to operate according to the franchise agreement (as it was understood prior to this judgment). Moreover, the non-compete post term obligations in franchise agreements should fulfill these other requirements in order to be valid:

a) To refer to goods or services which compete with the goods or services included in the franchise agreement.
 
b) To be essential for the protection of the technical know-how transferred by the franchisor to the franchisee.
 
c) The duration of the non-compete obligation is limited to one year after the termination of the agreement.
 
These rules are applicable to all EU countries.
 
What are the advantages and disadvantages of owning a franchise?
 
For the franchisor, the advantages are that a franchisee usually is more involved in the development of the business than an employee, and that it provides a quick expansion of the business without a high need of capital.
The disadvantages are the less control that the company can have over a franchisee,  the necessity that the financial model includes an allocation of the costs and profits that is fair and attractive for the franchisee, and the risk of competition by the franchisee, specially at the end of the agreement.
For the franchisee, the advantages are the possibility of having a business that has already been proved to be successful, the prestige of the brand, the support and innovation provided by the franchisor and possibility of sharing experiences with other franchisees.

Is now a good time to start a franchise?
 
Yes, subject to the performance of careful market analysis and the adaptation of the financial model. The franchised businesses have proved, during all these years of deep economic crisis in Spain, to perform better than non-franchised business. Now that Spanish economy is recovering, it would be easier to start and run a profitable franchised business. This is also applicable to the launch of foreign master franchises in Spain.
 
What questions should you ask before buying a franchise?
 
In Spain it is mandatory for the franchisors to provide the so called “Disclosure Document” or “Documento de Información Pre-Contractual”, whose minimum content is defined by the law, but a part from this, it is necessary to make a prospective profit & loss account, and last but not least, to talk to several franchisees and also, if possible, to those persons who have terminated the franchise relationship.
 
The minimum content of the Disclosure Document should be:
 
1) Information regarding the characteristics of the franchisor
 
a. Name, address, and franchisor’s ID number.
b. Data of inscription at the company’s register.
c. Last balance sheet approved with description of the paid up and subscribed capital.
 
2) Evidence of property of trade marks for Spain, the title of property of trademarks under which the franchise is being ruled, and information about any claim against them.
 
3) A general overview of the business sector to which the franchise belongs and an estimated investment and expenditure plan to be carried out by the franchisee for the setting up of a standard establishment.
 
4) An explanation of the franchisor’s experience, including:
 
a. Date when the franchise was created
b. Main phases of its evolution
c. Development of the network
 
5) A general description of the franchise including an explanation of its know-how and technical and commercial assistance that will be parted by the franchisor
 
6) Structure and size of the net in Spain, including:
 
a. An explanation about how the net is organized in Spain
b. Number of establishments that form part of the franchise in Spain, mentioning those franchises owned by the franchisor and those owned by independent franchisees.
               
7) A list of franchisees who have terminated their franchise contracts in the two previous years, as well as the cause of termination
 
8) A statement of the franchise contract, with an specific mention to:
 
a. Rights and duties which it grants and imposes
b. Termination and renovation clauses
c. Economic terms and conditions
d. Exclusivity requirements
e. Any limitation to the franchisee’s right to transfer the franchised business
 
Is franchising more secure than an independent start-up company in the current economic climate?
 
There is an economic environment where obtaining a master franchise could be an excellent deal during a long term, and it is in developing countries. Nowadays we are seeing that many countries are increasing their wealth year by year and a huge number of citizens are joining the middle class and have a big appetite for quality but reasonably priced products and services. In this context, the local entrepreneur who is able to bring and expand a franchised business to these territories has many possibilities of being very successful. On the other hand, in more mature economies, like the Western Europe and US countries, there are always good opportunities to succeed with a franchise thanks to the innovative spirit of these businesses, but more accurate market research should be done.
 
What are the main difficulties surrounding cross-border franchise agreements?
 
From the business point of view, I’d mention to bridge the cultural gap, to have made a throughout marketing research and to be ready to adapt the operations, goods or services, apart of course from the right selection of the franchisee.
The agreement should include the necessary flexibility to allow the network grow and manage it properly in changing circumstances, for example, allowing the reduction or the extension of the territory initially granted to the franchisee, depending on its performance. In the case of master franchisees, the agreement should facilitate the assignment of the franchise agreements to a new master franchisee or to a subsidiary of the franchisor when necessary.

Finally, I’d mention the protection of the knowhow and the brand, and the risks related to litigation and the enforcement of the judgment in a foreign country.
 
What should be included in a well-drafted franchise agreement?
 
A well drafted franchise agreement should have three main parts:

• Clauses regarding the commencement of the relationship: territory, trademarks, know how, fees and royalties, training, exclusivity, starting of operations, etc.;
• Clauses regarding the development of the relationship: products and services, prices, minimum sales figures, marketing actions, support, innovation, adaptation, reporting, audits, etc.;
• Clauses regarding the end of the relationship: term, renewal, causes and consequences of termination, transfer of the franchised business, non-competition, dispute resolution, etc.

 
Besides, an initial part containing the definitions, and a final part with miscellaneous clauses and the guarantees to be provided by the franchisee and/or its shareholders are usual in franchise agreements.
 
Some clauses that require special attention are those related to exclusivity and non competition after the agreement is terminated, and to what persons this clause should affect: the franchisee and all its partners, if the franchisee is a company, and maybe relevant employees of the franchisee.
 
How important is it to develop a financial model?
 
It is essential, because the essence of franchising is that they are “successful” business models, therefore the franchisee should obtain a reasonable profit or the franchise would disappear. To have a good financial model allows the franchisor to appoint the right franchisees and to provide them with the necessary advice and support. A balanced (which does not necessarily mean equal) distribution of the profits obtained from each product or service between franchisor and franchisee is essential for the success of the network, and here the financial analysis are essential.
 
How is cloud computing changing the way franchises do business?
 
Not necessarily cloud computing, but internet and the development of software which the franchisees should mandatorily use, allow franchisors to monitor on real time many aspects of the franchisees’ activities. This access to timely and accurate information should lead to an optimization of the management of the network by the franchisors.
 
Can you outline how disagreements or disputes are resolved?
 
Some franchise networks have a kind of advisory board formed by members representing franchisees and franchisors who generally deal with actions that affect the whole network. However, in Spain serious disagreements between franchisors and franchisees used to be solved in Court, because commercial mediation is not usual in Spain and arbitration is not so popular for these cases.
 
In an ideal world what would you like to see implemented or changed?
 
I’d like to see much faster Court proceedings and that all judgments were of the best quality, which implies that the judges should have time enough as to examine each case carefully. I’d also like to see fewer misunderstandings between franchisees and franchisors, especially at the early stages of their relationships, and less regulatory protectionism in some countries.

Mercedes Clavell is a lawyer with more than 25 year experience in cross border transactions, both in large international firms and well known domestic firms. She has advised many foreign companies in their operations in Spain (franchising & distribution, but also M&A, commercial litigation, start up projects and real estate transactions). Now she’s also advising Spanish franchising companies on their internationalization processes.

Mercedes can be contacted on +34 93 415 10 20 or by email at mercedesclavell@arcoabogados.es